Yeah, I just filed my taxes.
Can you smell it in the air? The sounds of tax software commercials wherever you turn, citizens squealing in delight at getting their tax refunds and other citizens pulling their hair out because they owe the government money. It’s tax time! The time where you will be inundated with commercials, articles and people on the corner flipping signs that say you’ll get a free pair of headphones for doing your taxes with them.
They all talk about maximizing your refund and getting the money into your checking account FAST! While this is all well and good, other than topping off some retirement accounts and fiddling around with your investments, there’s not really much we can do about our 2014 taxes. If your taxes are done correctly, you’re going to get the same refund if you go with the latest tax software or your friendly Walmart parking lot tax preparer. The only thing you can really do is get all your tax papers organized and try not to pay too much for a preparer. That’s it. There’s a lot of hoopla this time of year about tax tips, but 2014 is gone and there is not a whole lot you can do.
There should be more hoopla about saving on your 2015 taxes. Paying less taxes is all about being smart about them every month of the year starting in January. In essence, it boils down to one of two things. Whether you own a business or are a high schooler working a part time job, there are only ways to pay less taxes:
- Decrease gross income
- Increase deductions or credits
That’s it. These are the only two ways. The whole crazy US tax code stems from these two things. Even people who cheat on their taxes do one of these two things, just illegally. It’s important to know this so you can practice working on these throughout the year in order to decrease your tax burden.
Decrease gross income
When someone says they make $100,000 a year, they don’t simply calculate their taxes based on that number. It’s based on “taxable income”, which is essentially what you made from all sources minus your deductions. This number is what you want to get as low as possible and one method is to decrease your gross income.
There are also certain credits and deductions that you can only get if you have a low enough income, so not only will decreasing your gross income decrease your overall taxable income, it can open the door to more credits and deductions. For example, for a married couple filing joint taxes, the child tax credit starts phasing out for couples whose adjusted gross income is above $110,000. By keeping your income lower, you can get the full benefit of the credit. Obviously, consult a tax professional for your specific situation.
Here are some easy ways to decrease your gross income:
Contribute more to your 401k. This would be my first option, as it has the effect of decreasing your gross income and helping ensure your retirement. If your company matches some contributions, even better. Contributing to a 401k seems daunting for some people, but there are only a few decisions you have to make. The bottom line is that contributing to your 401k is a surefire and powerful way of decreasing your taxable income.
Contribute to a Traditional IRA. A Traditional IRA works similar to a 401k in that eligible contributions can be deducted from your gross income. There are income limits, however. For 2015, a single filer must have an adjusted gross income below $61,000 to be eligible for the full contribution deduction, which is $5,500 for those under 50 years of age. Some people prefer a Traditional IRA to a 401k because you can choose to open it with any company and are not limited to the choices only your employer gives you. If you meet the income requirements, this can be another powerful way to reduce your gross income.
Contribute to a Health Savings Account. Yet another great way to decrease your gross income and help your future at the same time is to contribute to an HSA. HSA’s are available to those who have a High Deductible Health Plan, and allow you to contribute money pre-tax for health related expenses. This money also has the bonus of not being taxed upon withdrawal if used for health care expenses, which is an amazing benefit. Money contributed to an HSA also avoids FICA taxes, which are the Social Security and Medicare taxes. I don’t think you can find an account anywhere that allows you to escape taxes totally.
Many HSA providers also have investment options, which is great since any gains or qualified withdrawals are not taxed. In order to provide an incentive to contribute to an HSA, some employers will throw in some free money as well. Definitely worth checking out if you haven’t already started contributing.
Contribute to a 529 plan. Many states allow a state tax deduction for contributions to their college savings plans. Find out if your state is one of them, and get a little break on your state taxes while helping with your child’s future college expenses. Read about my thoughts on 529 plans here.
Work less. Not the ideal solution for most, but if you worked really hard last year and it caused lots of unnecessary stress, it may be an option. Also, if you have a really long commute and have high workday related expenses, it may not be the worst thing in the world to take a day off here or there.
Increase deductions and credits
Deductions and credits are the other way to decrease your taxable income. Deductions work to reduce your taxable income while credits reduce the actual amount of tax you owe after it is calculated. Thus, credits are definitely more valuable but can be tougher to qualify for. You don’t think the government would make this easy now do you?
While the list of deductions and credit available is huge, I’ll just mention a few of the easy ones that most people can get. As always, consult a tax professional for your specific situation:
Have a kid. The Child Tax Credit can be great, especially for those with lots of kids. For those who meet the income requirements, it can reduce your tax bill by $1,000 per child. While having a child just to get a tax break is generally not a good idea, it’s a nice little break nonetheless.
Go back to school. There are a number of different credits and deductions for education. The big ones are the Lifetime Learning Credit, the American Opportunity Tax Credit and the Tuition and Fees deduction. They all have different requirements and effects on your taxes, so it’s best to have a tax professional guide you on which one you can claim. Lots of people want to go back to school to get another degree or need some help for paying their child’s tuition, and these education credits and deductions provide just that.
Give to charity. If you are able to itemize your deductions, which means you can claim certain deductions which will exceed the amount of the standard deduction that everyone is eligible for, then increasing your charitable contributions is an option. I know, I know we should give to charity out of the goodness of our hearts, but if we get a tax break for it too, then why not?
A strategy that some people do is that if they know they won’t be able to itemize deductions next year for whatever reason, they will double their charitable contributions for the current year, essentially giving their next year’s contribution as well which can maximize their deduction. It’s also a good practice to donate any unused clothes at some point in the year so you can take advantage of the deduction while de-cluttering your home.
Business expenses. Owning a business or having a profitable side hustle can lead to a plethora of possible deductions, which I can’t possibly go into because there are so many deductions available and I don’t know too much about them. This is definitely something to talk about with a tax professional.
The time to get serious about taxes is the year before they are due, not when you have to file them. Unfortunately by then, the ship has already sailed as far as getting deductions and credits. The deductions and credits listed in this post are kind of the easy low hanging fruits, but any serious discussion about your specific situation should be made with a tax professional.
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